Updating our investment models
Around this time each year, we carry out a couple of important tasks in respect of our investment portfolios.
Firstly, we review the suggested asset allocation changes made by the investment committee at Distribution Technology, the third-party provider we work with for risk analysis, capital market assumptions and asset modelling.
Secondly, we update our in-house investment fund research, based on the comprehensive screening process we use.
We are living in extraordinary times right now. Covid-19 is having a massive impact on the global economy, with various bouts of investment market volatility to accompany this, and plenty of speculation about the medium-term implications for the investment world order.
With this in mind, our Financial Planners and Paraplanners convened recently (via Zoom!) to review and discuss the notes, before making decisions about how the portfolios we recommend to our clients should change.
We noted that the fiscal and monetary efforts of global central banks helped equity markets to rebound strongly in the second quarter. Massive amounts of stimulus did a good job of propping up market valuations.
However, a negative consequence of higher market values is some equity market valuations now appearing stretched. With unreliable earnings forecasts (nobody yet knows just how bad the ‘second wave’ might be), these stretched equity valuations are noteworthy.
Economic uncertainty is another significant theme driving our portfolio changes, with falling bond yields and the prospect of negative interest rates.
Our investment committee noted there could be signals of a new macro regime change that would require fundamental adaption to our investment approach.
However, the trajectory of any economic recovery is still uncertain. Different economic forecasts contain a great deal of variability.
Inevitably, low (or even negative) interest rates and excessive monetary stimulus must return to ‘normal’ levels at some point. We don’t know when!
Turning to the asset allocation models we use; it was pleasing to see that our models showed a great deal of resilience in the first half of the year, and remain incredibly resilient to date.
We are continuing to adopt the long-term strategic theme of building in further global diversification within our models, as well as reducing exposure to bonds and increasing exposure to equities.
In practical terms, as we adjust the asset allocation of our portfolios, we are marginally cutting our exposure to Sterling Corporate Bonds and UK Equities, while increasing exposure to Global Investment Grade Bonds and North American Equity.
Turning to fund selection, it was very satisfying to see our preferred funds continuing to perform well and score highly against our primary criteria of consistent risk-adjusted returns and low costs.
We’re all happy to continue recommending all of our preferred funds from 2019/20, as we move into 2020/21, except for one change for our selected UK smaller companies fund.
This change is the result of the previous smaller companies fund increasing its volatility to uncomfortably high levels, while at the same time failing to maintain the consistency of its performance.
In a typical year, we might vary between one and three funds in our portfolios, so against the backdrop of significant economic uncertainty, to replace only one fund is testament to the quality of our fund research.
We will apply these updates to client portfolios at each review, and continue to monitor the changing economic landscape.
As ever, do speak to your Financial Planner with any questions.